Types of BEP
BEP Analysis
Type III: BEP of the change in variable cost
Type II: BEP of a fixed-cost investment
Type I: BEP of a price change
Type IV: BEP of Cannibalization
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Example: Type III BEP
Sun Manufacturing sells bookcases at a price of $100 a piece.
Variable costs per unit are $50. Suppose that the unit variable costs have changed
to $60, what will be the percentage increase in sales volume in order to make the profit remains the same?
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Break-Even Point = ( Unit Contribution_oldVC
Unit Contribution_newVC) -1
Formula for Type III BEP Analysis
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Solution
Margin at the old unit variable cost is $50 Margin at the new unit variable cost is $40
-1= 25%5040BEP =
To make sure the profit remains the same, the sales volume has to go up by 25%.
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Types of BEP
BEP Analysis
Type III: BEP of the change in variable cost
Type II: BEP of a fixed-cost investment
Type I: BEP of a price change
Type IV: BEP of Cannibalization
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Example: Type IV BEP
Sun Manufacturing sells bookcases at a price of $100 a piece.
Variable costs per unit are $50. Suppose that the company is considering introduce
a new brand that sells $120 and costs $60 each, what will be the percentage of sales for the new brand that is coming from the existing brand, so that the profit remains the same?
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Break-Even Rate = ( Unit Contribution_old offering
Unit Contribution_new offering
Formula for Type IV BEP Analysis
)
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Solution
Margin of the existing product is $50 Margin of the new product is $60
5060BEP = = 83.3%
To make sure the profit remains the same, the new product can take up to 83.3% of the market share from the existing product.
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Chapter 7
Price Levels
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10
The Pricing Strategy Pyramid
Value CommunicationCommunication, Value Selling Tools
PriceLevel
Price settingPricing Policy
Negotiation Tactics &Pricing Setting Procedures
Value CreationEconomic Value, Offering Design, Segmentation
Price StructureMetrics, Fences, Controls
Price Setting Process
Preliminary Segment Pricing
Set baseline prices based on type of value assessment
and initial differential value
capture rate
Key Questions:
How much of the differential value should be captured for each segment?
How much time and effort should I invest in assessing the value of my products?
How should I adjust segment prices to account for different price sensitivities?
Optimization
Refine preliminary prices with iterative process balancing tradeoffs between
price, cost, and market response
Key Questions:
What tradeoffs should I make between long-term strategic objectives and short-term market responses to price changes?
What types of analytical techniques are best suited to my product and market conditions?
How can I estimate customer response to potential price changes?
Implementation
Set final prices and ensure acceptance among customers and organization through effective
change management
approachKey Questions:
What tradeoffs should I make between long-term strategic objectives and short-term market responses to price changes?
What types of analytical techniques are best suited to my product and market conditions?
How can I estimate customer response to potential price changes?
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Preliminary Segment Pricing
PositiveDifferenti
ation
PositiveDifferenti
ation
Competitive
Reference
Competitive
Reference
Negative Differentiati
on
Negative Differentiati
onKey question: How much differential value should be captured in each segment?
The answer to this question can differ substantially across segments based on strategic considerations and differences in price sensitivity
The answer to this question can differ substantially across segments based on strategic considerations and differences in price sensitivity
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Price Setting Illustration
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Three Generic Pricing Strategies
Skim
Penetration
Neutral
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SKIM PENETRATION NEUTRAL
COSTS
CUSTOMERS
COMPETITION
Conditions for Different Pricing Strategies
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Pricing Strategy
SKIM PENETRATION NEUTRAL
COSTS
CUSTOMERS
COMPETITION
Costs similar to competitors
Sufficient CM to finance adv, etc.
Little excess capacityIncremental capacity is expensive
Customers are more sensitive to other elements of the marketing mix
Avoid threat of retaliation
Large share brands with a lot to lose
Sustainable mktg mix advantages
Oligopolies
High CMsHigh volumesChanges in volume drive profitability
Small BE Sales Changes
Excess capacity
High price sensitivity-Total Expend Effect-Large Part of End-Benefit
Little differentiation
Sustainable cost & resource advantage
Competitors not willing to retaliate
Financial strengthAggressive small share brands
Low CMsLow VolumesChanges in Unit Price Drive Profit
Large BE Sales Changes
At or near capacity
Low Price Sensitivity-Reference Price Effect
-Price Quality Effect-Difficult Comparison Effect
Limited threat of opportunism
Limited opportunity for scale economies
Sustainable differentiation
Low threat brands
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Categorize These Pricing Strategies
How would you categorize the pricing strategies for the following products and retailers? (S=skim, N=neutral, P=penetration)
Pepperidge Farm Cookies _______Suave Shampoo _______Land O' Lakes Butter _______T.J. Maxx (Clothing) _______L'Oreal Hair Coloring _______
Bloomingdales _______Sears _______
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Analytical Approaches to Profitability Analysis
Automated Price Optimization
System
Automated Price Optimization
System
Spreadsheet -based Break -even Analysis
Spreadsheet -based Break -even Analysis
Simulation Modeling / Risk
Analysis
Simulation Modeling / Risk
Analysis
Frequency of Price Changes
Num
ber
ofT
rans
actio
ns
Low
Low
High
High
Automated Price Optimization
System
Automated Price Optimization
System
Spreadsheet -based Break -even Analysis
Spreadsheet -based Break -even Analysis
Simulation Modeling / Risk
Analysis
Simulation Modeling / Risk
Analysis
Frequency of Price Changes
Num
ber
ofT
rans
actio
ns
Low
Low
High
High
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Analyzing Profitability Using theBreakeven Sales Change Approach
5% 10% 20% 30% 40% 50% 60% 70% 80% 90%
35% -88% -78% -64% -54% -47% -41% -37% -33% -30% -28%
25% -83% -71% -56% -45% -38% -33% -29% -26% -24% -22%
15% -75% -60% -43% -33% -27% -23% -20% -18% -16% -14%
5% -50% -33% -20% -14% -11% -9% -8% -7% -6% -5%
0% 0% 0% 0% 0% 0% 0% 0% 0% 0% 0%
-5% NA 100% 33% 20% 14% 11% 9% 8% 7% 6%
-15% NA NA 300% 100% 60% 43% 33% 27% 23% 20%
-25% NA NA NA NA 167% 100% 71% 56% 45% 38%
-35% NA NA NA NA 700% 233% 140% 100% 78% 64%
% C
ha
ng
e i
n P
ric
e
Contribution Margin
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Risk Analytic Approach to Profitability Analysis
Frequency Comparison
.000
.009
.018
.027
.036
19,000,000.00 21,500,000.00 24,000,000.00 26,500,000.00 29,000,000.00
Premium Branding Strategy
Discount Pricing Strategy
Overlay Chart
Premium Branding Strategy
Discount Pricing Strategy
Comparative Risk Profiles
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Determinants of Price Sensitivity The Reference Price Effect
The Difficult Comparison Effect
The Switching Cost Effect
The Price-Quality Effect
The Expenditure Effect
The End-Benefit Effect
The Fairness Effect
The Framing Effect
The Shared-Cost Effect21
Price Sensitivity Illustration
For each of the following purchase decisions, what factors are likely to affect the consumer's price sensitivity?
A diamond engagement ring Automobile repairs Food for meals at home Which university to attend A company car Draperies for your new home Text books Health insurance plan Souvenirs Vacation resort 22
Price Sensitivity Discussion Questions
What can a company do to decrease its customer's price sensitivity?
Would all of the company's customers be likely to react in the same way?
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Price Sensitivity Discussion Questions
Would a company ever want to do anything to increase its customers' price sensitivity? Why?
What steps might it take?
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Price Sensitivity Discussion Questions
Which of the following statements are always true, sometimes true, never true? Why?
(a) Price elasticity is generally the same for all brands in a product category.
(b) Advertising increases price sensitivity.
(c) As a product category matures, the consumers become more price sensitive.
(d) Each consumer has different price sensitivities for different products.
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Price Sensitivity Questions
The gasoline service stations in Rochester, New York convinced the City Council to ban signs displaying gasoline prices
Why would they want to do this?
What effect do you think this law had on gasoline prices? Why?
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Price Sensitivity Questions
Despite the fact that rental rates for commercial space and labor costs are generally higher in big cities than in small towns, the prices of many products--such as stereo equipment and clothing--are higher in small towns than in large cities.
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Price Sensitivity Discussion QuestionsMany local rental car agencies rent late model cars at substantially lower prices than national companies such as Hertz and Avis. Despite their higher prices, the national companies still retain most of the market
(a) Explain why most renters patronize the national car rental companies despite their higher prices. How have the national companies encouraged this price insensitivity?
(b) If you were a small, local company, what factors would you look for to identify the price-sensitive segment of renters likely to be attracted to your lower price?
(c) If you were a small company trying to become national, how might you overcome the low price sensitivity of customers to induce them to try your cars and evaluate the quality of your service?
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Next Lecture
Price and Promotion
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